As 2021 is in the final month, what can we look forward to in 2022 and beyond?
So far in 2021 we have the following performance:
Dow Jones +17.53%
S&P Goldman Sachs Commodity Index +32.9%
S&P Goldman Sachs Agriculture index + 23.84%
WTI crude oil + 47.71%
RBOB gasoline + 52.29%
#11 sugar + 27.24%
Coffee + 81.44%
So commodities put it to stocks this year, but even though the performance was better, investors actually did not increase commodity exposure, at least in exchanges. In fact they reduced their positions. Index funds went from 2.503 million lots at the end of 2020(short and long together) and by the CFTC report last Friday, they were down to 2.107 lots, a drop of 15.82%. The net position fell from 1.566 million lots to 1.466, a drop of 4.37%. If we look at the non-commercial position combining longs and shorts, the number goes from 1.849 million lots at the end of 2020 to 1.564 million lots, a drop of 15.41%. The net position fell from 1.023 million lots to 564 K lots, a drop of 44.87%.
This situation is somewhat perplexing. The index fund position has been falling on a combined gross basis since June 18th of 2020. A drop of 601 K lots or 22%. It is interesting to read in the report on rebalancing the index fund positions that Goldman Sachs does not even report on the AUM under management. Traders estimate it to be around 100 billion. That matches up with the Index funds which track the Bloomberg Commodity index. So have investors just not taken to the index fund methodology? The peak number of contracts in 2008 was 2.150 million lots. The current amount now is 2.107 million lots. That is both long and short combined. If we look at the net position, back in 2008 it was 1.782 million lots. Currently it is 1.463 million. Index funds are still biased long, but not back when it began seeing investor interest in 2006-2008 until the financial crisis.
With regards to regular specs, which has seen a similar drop in gross long and short position but a huge drop in net long, a big reason for the drop has been the improved weather in the US and so far big grain crops in South America. The net position for grains and soy products has fallen 601 K lots which is larger than the total agricultural contract drop. But if we look at the combined position of spec long and shorts, it has fallen from 2.116 million lots in April of 2013 to 1.564 million lots now, a drop of 26%.
The big inhibiting factor I believe is the backlash that speculators saw back in the aftermath of 2008 and 2011 when wheat exploded along with other commodities. They were blamed for the increase in (the wheat price mainly) price and the food riots we saw in 40 countries. The US government forced the CFTC to come up with position limits for funds and even though it took almost ten years to arrive at a limit and the limit was larger than the previous positions, the shot across the bow of the speculators appeared to be heard loud and clear.
In the meantime, there is no position limit or even price limits (unless the stock index falls) in stocks and ETFs. ETF assets under management in 2006 was $423 billion. At the end of 2020 the amount was $5.449 trillion. That is just in the US. Globally ETF amounts in 2021 have reached $9 trillion. Commodities can’t compete with that. A note on this, is that there is $1.359 trillion in notional value on commodities as of the first half of 2021. That is up 5% since the second half of 2019. But, that includes all commodities including energies, just not gold and precious metals.
So what happens in 2022? Inflation numbers were stronger last month than they have been since 1982. But traders believe that will guarantee an accelerated taper and then an interest rate increase. Morgan Stanley believes there will be two hikes in 2022 and this will be followed by another three hikes in 2023. That anticipation has boosted the US dollar index already. We also have two other potential geopolitical issues brewing with Russia threatening to invade Ukraine and China threatening Taiwan. Either move would disrupt the world economy, but particularly, a potential takeover of Taiwan from China. That would lead to a huge control of a large portion of the world’s chip production and that would just lead to more production issues with cars and anything that uses silicon chips.
Even if China doesn’t make a move on Taiwan, they are having to deal with a number of issues that are slowing growth and slower growth for China will impact commodity demand, at least industrial metals and energy. Agricultural commodities will be less impacted, but if energy prices struggle then the concern about inflation will be abated, or at least reduced. But even with the macro looking potentially troublesome, agricultural futures need weather to cooperate. Weather for the last five to ten years is cooperating less and less. Currently we are seeing a La Nina impacting the globe and this could last until April. That could be just the start.
What about sugar?
The six largest exporters, Brazil, India, Thailand, Australia, Mexico, Guatemala and the EU account for nearly 82% (51.642 MMT) of global exports, which is 63.117 MMT according to the latest USDA report. Of that, Brazil represents 26.00 MMT or 50%. Of the seven largest exporters, we don’t expect much change in Australia (3.635 MMT) and Guatemala (1.823 MMT) as their production and exports varies little compared to the top three.
Mexico (1.884 MMT) depends a great deal on the United States for their exports, some 50% for 21/22 at least as Mexican production has bounced back. The 50% of exports that aren’t going to the US are forced to go to the world market by their government. They have been used by the trade at times to play spread games as they are delivered to the board, but Mexico generally likes to hold back as much as possible to see if the US has a production issue.
The EU has seen their production rebound from 20/21 with an additional 2.0 MMT. Imports as a result have fallen off by 25.9% from last year. Can exports rebound as well? There is an improved expectation with regards to the start of the year but for now exports (according to the USDA) are only expected to be 50 K better at 1.300 MMT. Looking forward to next year, will beets gain area due to the fact they use less fertilizer than wheat? (80 kg per hectare vs 200 kg hectare for wheat) But since the end of March of this year, wheat has rallied 30% and sugar prices in Europe have been up only 3.5%)
The USDA has Indian exports at 7.00 MMT, but after the recent news that the Indian government will be monitoring exports, there is now the idea that the government may be making more noise once export sales reach 5.0 MMT, so the thought it exports will be held in check around 6.00 MMT. Of course it will depend on how the crop progresses and there has been some concern that the rebound from this last year won’t be as large as initially thought, though I don’t see the 3.4 MMT of sugar shift to ethanol. Realistically, it is more likely the number will be 2.75 MMT. So that makes production closer to 32.00 than the 31.00 that is commonly cited.
Thailand is the country that looks to be expanding the most. This year’s production is expected to be around 10.00 MMT but there is a wide divergence on exports The USDA has 10.00 MMT, but most are below that, and closer to 7.0 MMT. Still, according to a report last week from an in-country source, the farmers are increasing their cane planting, apparently pulling land from rice due to the price discrepancy. But the mills are also paying aggressive levels for cane, up to 1,500 Bhat per ton. The source expects cane area to expand by around 10%, but given that some production estimates are as high as 12.4 MMT, some must be expecting an even larger expansion.
Last, but not least is Brazil. The USDA has full country exports at 26.00 MMT. Others see the number closer to 29.00 MMT. This is around 9.8-19.1% below 20/21. It would appear that Brazil’s 22/23 production will be slightly higher than this year’s 32.00 MMT. But it is still unclear, 1) If cane production will be larger, given the current La Nina weather event. And 2) Will the mix be similar to this year’s or not given the crude oil price revival after it appeared that Omicron was milder than Delta. But more importantly, what will be Brazil’s cane and sugar production potential moving forward? With the two largest groups, Raizen and Copersucar (combined 200 MMT of crushing capacity) working on their new structures, it is unlikely they will be expanding immediately. With 105+ mills in Brazil bankrupt, you won’t see them expanding much. They probably represent around 70-100 MMT of crush. So that leaves 200 MMT of crush that might look at expanding, perhaps to maximize crush, but very few greenfields ( I know of one, which is flex). So the world’s largest producer, despite record returns on export sugar, is still just effectively stagnating.
So it would appear that despite elevated prices, much of the production/export increase will be coming from one country, Thailand. Meanwhile consumption will continue to increase. Brazil could see another drop in production if energy prices remain elevated. India and Argentina are looking at a similar issue which at least will curb sugar production expansion as both countries will be looking for more ethanol production. Thailand, which imports 65% of their crude oil needs SHOULD be doing the same thing. (So should El Salvador, Guatemala and Honduras for that matter.)So if the world keeps growing, who will supply the world’s sugar needs?
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Mr. Michael McDougall is Managing Director at Paragon Global Markets, LLC, New York, USA. He has been active in commodity futures for 35 years.